When oil hit $105 I thought that was it. I called for oil to pull back to $70. Fundamentally there was no reason for oil to be over $100, peak oil or not. The world economy was rapidly slowing and along with it real demand.

What I should have accounted for but didn’t was one last wave of complete silliness by hedge funds, speculators, and everyone else wanting to get in on the commodity boom and the China story before it was “too late”.

People were predicting “Next stop $200” or even “Next Stop $300”. All I could say and did say was “wait”. And so here we are.

Click On Chart For Sharper Image

OPEC Is Threatening More Cuts

Now, with oil at $61.63, OPEC says more cuts could be on the way.

OPEC president Chakib Khelil reportedly said on Saturday that further cuts in oil output from the OPEC nations could be on the way if attempts last month to reduce production fail to halt the current plunge in crude prices.

Khelil, who also serves as Algeria’s energy mister, said an OPEC report would show by the end of the month whether all cartel members have enforced the reduction of 1.5 million barrels per day decided upon last month, according to the Associated Press.

Reasonable prices should range between $70 and $90 a barrel, he said, adding that he hoped production cuts would raise and stabilize prices to levels that make sense to both the exporters and the consumer nations, the AP reported.

Reasonable Prices?

How does Khelil know where reasonable prices are? If you have to put a cartel together to artificially force up prices, can the price even be considered reasonable?

A reasonable price to me is what the market will bear without some group or government conspiring to manipulate prices.

Drowning in Oil (Again)

On October 28, Caroline Baum, one of my favorite columnists, summed up the situation nicely in World Is ‘Drowning in Oil’ (Again).

Oct. 28 (Bloomberg) Three months ago, the world was running out of oil.

Seriously. I kid you not. Everywhere you turned, you heard whispers that the day of petroleum reckoning was at hand.

Now there’s too much oil, prodding OPEC to cut production targets for the first time in two years. Last week, the Organization of Petroleum Exporting Countries, confronted with the halving of oil prices since July, announced a 1.5 million barrel-a-day cut in output. World markets greeted the news of reduced oil supply by pushing prices down further.

All speculative bubbles have a kernel of truth behind them to justify their existence. This time around it was China and India. These emerging Asian giants were gobbling up all the commodities the world could produce to fuel their rapid industrialization.

It wasn’t that the story was untrue; it was old. Growing global demand probably was the reason for the gradual rise in oil prices from $20 a barrel to $40 earlier in the decade, and even to $60 by mid-2005.

It was the moon shot to $147 that took on a life, and a litany, of its own. Emerging nations didn’t start gobbling up crude, coal and copper all of a sudden in the middle of 2007.

Yet analysts on TV and in print told us with a straight face that the doubling in oil prices from July 2007 to July 2008 was a result of fundamental demand, not speculative buying or investors, including pension funds, “diversifying” into “alternative investments” in search of “uncorrelated returns.” (It sounds a lot better than admitting you got suckered into buying what was going up and are now stuck with a pile of stuff that no one wants.)

“It happens in every market,” says Michael Aronstein, president of Marketfield Asset Management in New York. “Once it goes up an enormous amount, creating unfathomable wealth for the fortunate participants, someone makes an ex-post case as to why we are only at a beginning and it’s not too late to get in.”

Please read the rest of the article because it is a gold mine of common sense and practicality sadly lacking in newsletters and mainstream media.

Yes, I believe in the theory of “Peak Oil” and have stated so many times. However, I also believe Baum when she writes …

Man’s ingenuity is equally vast. When the time comes, given all the tax incentives that will be thrown in the direction of alternative energy, I have full confidence the world will not return to travel by horse and buggy.

Not a single analyst bothered to figure out who could afford to pay $300 for oil, what such a price would do to the demand curve, shipping costs, hiring plans, or anything else. Hells bells, demand is still falling at $61.63, so much so that OPEC is threatening still more cuts while making ridiculous claims about “reasonable prices”.

Now analysts are proclaiming lower prices are good for the economy. Of course those same analysts said a rising price was good for the economy because it showed fundamental demand. So as best as I can figure out from the cheerleaders is that rising oil prices and falling oil prices are both good for the economy.

Baum talks about this in her article with a look at shifts in the demand curve. We have our differences over some Austrian economic issues, but her columns are always well worth a read. This particular one is impeccable.

At the risk of enduring more cat calls, I think nearly everyone is underestimating the length and strength of this recession and how much it will affect global demand for oil. With that in mind, we can and probably should expect to see oil prices to continue to decline, substantially.

Mike “Mish” Shedlock
Click Here To Scroll Thru My Recent Post List